SMLLC converting to MMLLC: Income tax consequences

[TCl]

Struggling a bit regarding a SMLLC converting to a MMLLC and the potential income tax consequences associated with the event.

Scenario:
Single Member 1 will be giving up 50% of the business to:

Member 2 - 10%
Member 3 - 40%

The new Members will not be contributing anything to the MMLLC other than their expertise/contacts/etc. and intent was to make them members all along. (Member 2 and Member 3 have been with the business since inception in 2019 and received a bonus, in 2021, in the form of a percentage of the business profits for the year … as if they actually had ownership ... this was done intentionally, as Member 2 and Member 3 had some legal issues to work thru prior to becoming actual members).

The Business started to make a profit in 2021 and will bring in around $3.5 mil in Revenues in 2022.

Has anyone run across something like this? Any recommendations on how to handle this to avoid income tax consequences? I would really appreciate your expertise.

Thank you so much!

[Beersheba]

It may depend on the selection when the SMLLC was first set up. If it was set up as a sole proprietorship, the election will have to change - cannot have more than one member for a sole proprietorship. The customer can now choose from a Partnership, a Sub S Corporation, or a C Corporation.

[TCl]

Thank you.

[Gretel]

Struggling a bit regarding a SMLLC converting to a MMLLC and the potential income tax consequences associated with the event.

Scenario:
Single Member 1 will be giving up 50% of the business to:

Member 2 - 10%
Member 3 - 40%

The new Members will not be contributing anything to the MMLLC other than their expertise/contacts/etc. and intent was to make them members all along. (Member 2 and Member 3 have been with the business since inception in 2019 and received a bonus, in 2021, in the form of a percentage of the business profits for the year … as if they actually had ownership ... this was done intentionally, as Member 2 and Member 3 had some legal issues to work thru prior to becoming actual members).

The Business started to make a profit in 2021 and will bring in around $3.5 mil in Revenues in 2022.

Has anyone run across something like this? Any recommendations on how to handle this to avoid income tax consequences? I would really appreciate your expertise.

Thank you so much!

If this is truly a gift there shouldn't be income tax consequences. A gift tax return will need to be filed and the original basis will transfer 50% to new members. However, there are more questions to be asked (this is over my head) to determine if this is an outright gift. One questions comes to mind: If they had joined from the beginning and they were not supposed to make any contribution, there is the issue of them bringing in intangible assets and labor, which was run through payroll I presume?